公司理财精要第九章题库

Chapter 09 - Making Capital Investment Decisions

Chapter 09

Making Capital Investment Decisions

Multiple Choice Questions

1. Any changes to a firm's projected future cash flows that are caused by adding a new project are referred to as which one of the following? A. Eroded cash flows B. Deviated projections C. Incremental cash flows D. Directly impacted flows E. Assumed flows

2. Which one of the following principles refers to the assumption that a project will be evaluated based on its incremental cash flows? A. Forecast assumption principle B. Base assumption principle C. Fallacy principle D. Erosion principle E. Stand-alone principle

3. A cost that should be ignored when evaluating a project because that cost has already been incurred and cannot be recouped is referred to as which type of cost? A. Fixed B. Forgotten C. Variable D. Opportunity E. Sunk

4. Which one of the following terms refers to the best option that was foregone when a particular investment is selected? A. Side effect B. Erosion C. Sunk cost

D. Opportunity cost E. Marginal cost

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5. Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project? A. Opportunity cost B. Sunk cost C. Erosion

D. Replicated flows E. Pirated flows

6. A pro forma financial statement is a financial statement that:

A. expresses all values as a percentage of either total assets or total sales. B. compares actual results to the budgeted amounts. C. compares the performance of a firm to its industry. D. projects future years' operations.

E. values all assets based on their current market values.

7. The amount by which a firm's tax bill is reduced as a result of the depreciation expense is referred to as the depreciation: A. tax shield. B. credit. C. erosion.

D. opportunity cost. E. adjustment.

8. Which one of the following refers to a method of increasing the rate at which an asset is depreciated?

A. Non-cash expense

B. Straight-line depreciation C. Depreciation tax shield

D. Accelerated cost recovery system E. Market based depreciation

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9. Forecasting risk is best defined as: A. reality risk. B. value risk. C. potential risk. D. management risk. E. estimation risk.

10. Jamie is analyzing the estimated net present value of a project under various what if scenarios. The type of analysis that Jamie is doing is best described as: A. sensitivity analysis. B. erosion planning. C. scenario analysis. D. benefit planning.

E. opportunity evaluation.

11. Mark is analyzing a proposed project to determine how changes in the variable costs per unit would affect the project's net present value. What type of analysis is Mark conducting? A. Sensitivity analysis B. Erosion planning C. Scenario analysis D. Cost-benefit analysis E. Opportunity cost analysis

12. The opportunities that a manager has to modify a project once it has started are called: A. sensitivity choices. B. managerial options. C. scenario adjustments. D. restructuring options. E. erosion control measures.

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13. Contingency planning focuses on the: A. opportunity costs involved with a project. B. sunk costs related to a project.

C. economic effects on a project's profitability. D. managerial options implicit in a project. E. optional capital requirements of a project.

14. Which one of the following refers to the option to expand into related businesses in the future?

A. Strategic option B. Contingency option C. Soft rationing D. Hard rationing

E. Capital rationing option

15. Kyle Electric has three positive net present value opportunities. Unfortunately, the firm has not been able to find financing for any of these projects. Which one of the following terms best describes the firm's situation? A. Sensitivity analysis B. Capital rationing C. Soft rationing

D. Contingency planning E. Sunk cost

16. Marcos Enterprises has three separate divisions. The firm allocates each division $1.5 million per year for capital purchases. Which one of the following terms applies to this allocation process? A. Soft rationing B. Hard rationing C. Opportunity cost D. Sunk cost

E. Strategic planning

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17. The Blackwell Group is unable to obtain financing for any new projects under any circumstances. Which term best applies to this situation? A. Contingency planning B. Soft rationing C. Hard rationing D. Sensitivity analysis E. Scenario analysis

18. The Shoe Box is considering adding a new line of winter footwear to its product line-up. Which of the following are relevant cash flows for this project?

I. decreased revenue from products currently being offered if this new footwear is added to the lineup

II. revenue from the new line of footwear

III. money spent to date looking for a new product line to add to the store's offerings IV. cost of new counters to display the new line of footwear A. I and IV only B. II and IV only C. II and III only D. I, II, and IV only E. II, III, and IV only

19. Lake City Plastics currently produces plastic plates and silverware. The company is considering expanding its product offerings to include plastic serving trays. Which of the following are cash flows relevant to the new product? I. molds needed to form the serving trays

II. projected increase in plate and silverware sales if the trays are produced III. a portion of the production manager's current annual salary of $75,000 IV. raw materials used in the production of the serving trays A. I and IV only B. III and IV only C. I, II, and IV only D. I, III, and IV only E. I, II, III, and IV

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20. The Corner Market has decided to expand its retail store by building on a vacant lot it

currently owns. This lot was purchased four years ago at a cost of $299,000, which the firm paid in cash. To date, the firm has spent another $38,000 on land improvements, all of which was also paid in cash. Today, the lot has a market value of $329,000. What value should be included in the analysis of the expansion project for the cost of the land?

A. The sum of the cash paid to date for both the lot and the improvements B. The original purchase price only

C. The current market value of the land plus the cash paid for the improvements D. The current market value of the land

E. Zero because the land and the improvements were purchased with cash

21. Weston Steel purchased a new coal furnace six years ago at a cost of $2.2 million. Last year, the government changed the emission requirements and this furnace cannot meet those standards. Thus, Weston's can no longer use the furnace nor have they been able to locate anyone willing to purchase the furnace. Given the current situation, the furnace is best described as which type of cost? A. Erosion B. Book C. Sunk D. Market E. Opportunity

22. Valley Forge and Metal purchased a truck five years ago for local deliveries. Which one of the following costs related to this truck is the best example of a sunk cost? Assume the truck has a usable life of eight years.

A. New tires that will be purchased this winter

B. Costs of repairs needed so the truck can pass inspection next month C. Money spent last month repairing a damaged front fender D. Engine tune-up that is scheduled for this afternoon

E. Cost for a truck driver for the remainder of the truck's useful life

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23. The managers of H.R Construction are considering remodeling plans for an old building the firm currently owns. The building was purchased 8 years ago for $689,000. Over the past 8 years, the firm rented out the building and used the rent to pay off the mortgage. The building is now owned free and clear and has a current market value of $898,000. The firm is considering remodeling the building into a conference centre and sandwich bar at an estimated cost of $1.7 million. The estimated present value of the future income from this centre is $2.9 million. Which one of the following defines the opportunity cost of the remodeling project? A. Initial cost of the building B. Cost of the remodeling

C. Current market value of the building

D. Initial cost of the building plus the remodeling costs

E. Current market value of the building plus the remodeling costs

24. Bruce Moneybags owns several restaurants and hotels near a local interstate. One restaurant, Beef and More, needs modernized. He is trying to decide whether to accept an offer and sell Beef and More as is for the offer price of $1.1 million or renovate the restaurant himself. The projected renovation cost is $1.3 million. The restaurant would need to be shut down

completely during the renovation which would cause a net operating cash flow loss of $210,000 in today's dollars. The estimated present value of the cash inflows from the renovated restaurant are $3.2 million. When analyzing the renovation project, what opportunity cost, if any should be included for the current restaurant? Assume the restaurant is totally paid for and any future costs will be paid in cash.

A. There is no opportunity cost since the current restaurant is owned free and clear. B. The opportunity cost is the value of the current offer to buy the restaurant. C. The opportunity cost is the cost of the needed improvements.

D. The opportunity cost is the present value of the loss of operating cash flows while the restaurant is closed for renovation.

E. The opportunity cost is the cost of the renovations plus the loss of the operating cash flows during the renovation.

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25. Isabella is considering three mutually exclusive options for the additional space she just added to her specialty women's store. The cost of the expansion was $127,000. She can use this additional space to add a fabric and quilting section, add an exclusive gifts department, or expand into imported decorator items for the home. She estimates the present value of these options at $114,000 for fabric and quilting, $163,000 for exclusive gifts, and $138,000 for decorator items. Which option(s), if any, should Isabella accept? A. None of the options B. Fabric and quilting only C. Exclusive gifts only

D. Exclusive gifts and decorator items only E. All three options

26. Steve owns a store that caters primarily to men and their hobbies. He is contemplating greatly expanding the hunting and fishing section of the store. If he does this, he expects his fishing and hunting sales will increase, his camping gear sales will increase, and his model train sales will decrease. Which of the following should Steve include in his revenue projection for the expansion project?

I. increase in fishing and hunting sales II. increase in camping gear sales III. decrease in model train sales A. I only B. II only

C. I and III only D. II and III only E. I, II, and III

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27. Lakeside Rides is adding a new roller coaster to its amusement park. The firm expects this addition to increase its overall ticket sales and increase attendance at its park. In particular, the firm expects to sell more tickets for its current roller coaster and experience extremely high demand for its new coaster. Sales for its boat ride are expected to decline but food and beverage sales are expected to increase significantly. Which of the following are considered side effects associated with the new roller coaster? I. ticket sales for the new roller coaster

II. change in ticket sales for the existing coaster III. change in ticket sales for the boat ride IV. change in food and beverage sales A. I only B. III only

C. II and III only D. I, II, and III only E. II, III, and IV only

28. Which of the following should be included in the analysis of a proposed investment? I. erosion effects II. opportunity costs III. sunk costs IV. side effects A. I only B. II only

C. I and IV only D. I, II, and IV only E. I, II, III, and IV

29. The net working capital invested in a project is generally: A. a sunk cost.

B. an opportunity cost.

C. recouped in the first year of the project. D. recouped at the end of the project.

E. depreciated to a zero balance over the life of the project.

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30. A proposed project will increase a firm's accounts payables. This increase is generally: A. treated as an erosion cost. B. treated as an opportunity cost. C. a sunk cost and should be ignored.

D. a cash outflow at time zero and a cash inflow at the end of the project. E. a cash inflow at time zero and a cash outflow at the end of the project.

31. Which of the following are cash inflows from net working capital? I. increase in accounts payable II. increase in inventory

III. decrease in accounts receivable IV. decrease in fixed assets A. II only B. III only

C. I and III only D. III and IV only E. I, II, and III only

32. Which of the following should be included when compiling pro forma statements for a proposed investment? I. forecasted sales II. start-up costs

III. aftertax salvage value of any assets sold IV. anticipated changes in net working capital A. I only

B. II and IV only C. I, II, and III only D. II, III, and IV only E. I, II, III, and IV

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33. Firm A uses straight-line depreciation. Firm B uses MACRS depreciation. Both firms

bought $60,000 worth of equipment last year. Both firms are in the 35 percent tax bracket. The operating cash flows for each firm are identical except for the depreciation effects. Given this, you know the:

A. depreciation expense for Firm A will be greater than Firm B's expense every year.

B. equipment has a higher value on Firm B's books than on Firm A's at the end of year two. C. operating cash flow of Firm A is less than that of Firm B for year two.

D. market value of Firm A's equipment is greater than the market value of Firm B's equipment. E. market value of Firm B's equipment is greater than the market value of Firm A's equipment.

34. Assume a firm has positive net earnings. The operating cash flow of this firm: A. ignores both depreciation and taxes.

B. is unaffected by the depreciation expense. C. must be negative.

D. increases when tax rates decrease.

E. is equal to net income minus depreciation.

35. The operating cash flows of a project:

A. are unaffected by the depreciation method selected. B. are equal to the project's total projected net income. C. decrease when net working capital increases. D. include any aftertax salvage values. E. include erosion effects.

36. The tax shield approach to computing the operating cash flow, given a tax-paying firm: A. ignores both interest expense and taxes. B. separates cash inflows from cash outflows.

C. considers the changes in net working capital resulting from a new project. D. is based on the fact that depreciation does not affect the operating cash flows. E. recognizes that depreciation creates a cash inflow.

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37. Which one of the following will increase the operating cash flow as computed using the tax shield approach?

A. Decrease in depreciation B. Decrease in sales

C. Increase in variable costs D. Decrease in fixed costs E. Increase in the tax rate

38. Scenario analysis is best described as the determination of the: A. most likely outcome for a project. B. reasonable range of project outcomes.

C. variable which has the greatest effect on a project's outcome.

D. effect that a project's initial cost has on the project's net present value.

E. change in a project's net present value given a stated change in projected sales.

39. Which one of the following is a correct value to use if you are conducting a best case scenario analysis?

A. Sales price that is most likely to occur B. Lowest expected level of sales quantity C. Lowest expected salvage value

D. Highest expected need for net working capital E. Lowest expected value for fixed costs

40. Scenario analysis asks questions such as:

A. How will changing the number of units sold affect the outcome of this project? B. What is the best outcome that should reasonably be expected?

C. How much will a $1 increase in the variable cost per unit change the net present value? D. Will the net present value increase or decrease if the quantity sold increases by 100 units? E. How will the operating cash flow change if the depreciation method is changed?

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41. Scenario analysis:

A. determines the impact a $1 change in sales has on the internal rate of return.

B. determines which variable has the greatest impact on a project's net present value.

C. helps determine the reasonable range of expectations for a project's anticipated outcome. D. evaluates a project's net present value while sensitivity analysis evaluates a project's internal rate of return.

E. determines the absolute worst and absolute best outcome that could ever occur.

42. Sensitivity analysis:

A. looks at the most reasonably optimistic and pessimistic results for a project.

B. helps identify the variable within a project that presents the greatest forecasting risk.

C. is used for projects that cannot be analyzed by scenario analysis because the cash flows are unconventional.

D. is generally conducted prior to scenario analysis just to determine if the range of potential outcomes is acceptable.

E. illustrates how an increase in operating cash flow caused by changing both the revenue and the costs simultaneously will change the net present value for a project.

43. Turner Industries started a new project three months ago. Sales arising from this project are exceeding all expectations. Given this, which one of the following is management most apt to implement?

A. Option to wait B. Soft rationing C. Strategic option D. Option to abandon E. Option to expand

44. Ignoring the option to wait:

A. may overestimate the internal rate of return on a project. B. may underestimate the net present value of a project.

C. ignores the ability of a manager to increase output after a project has been implemented. D. is the same as ignoring all strategic options.

E. ignores the value of discontinuing a project early.

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45. Which of the following have the potential to increase the net present value of a proposed investment?

I. ability to immediately shut down a project should the project become unprofitable II. ability to wait until the economy improves before making the investment

III. option to place the investment on hold until a more favorable discount rate becomes available

IV. option to increase production beyond that initially projected A. I only

B. I and IV only C. II and III only D. I, II, and IV only E. I, II, III, and IV

46. The ability to delay an investment:

A. is commonly referred to as the best case scenario.

B. is valuable provided there are conditions under which the investment will have a positive net present value.

C. ensures that the investment will have an expected net present value that is positive. D. offsets the need to conduct sensitivity analysis. E. is referred to as the option to abandon.

47. Nu Tek is comprised of four separate operating divisions. For this year, the firm has decided to allocate capital funds using a soft rationing approach. Which one of the following applies to this situation?

A. Division managers will be limited to accepting a single new project each.

B. Division managers are being given blanket approval to accept all positive net present value projects.

C. Divisions managers will vie with each other for additional capital allocations.

D. Division managers will not receive any funding for new projects but will be allowed to expand current operations.

E. Division managers will not receive capital funding for any project.

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48. Which one of the following statements is correct when a firm faces hard rationing? A. All positive net present value projects will be accepted.

B. Each division within a firm will be allocated an amount for capital expenditures that will be less than the total value of its positive net present value projects. C. The firm does not have funds to finance any new projects.

D. The firm will fund only those projects that create value for its shareholders.

E. The firm will only finance the projects which have the highest profitability index values.

49. The Green Shingle purchased a parcel of land 6 years ago for $299,500. At that time, the firm invested $64,000 grading the site so that it would be usable. Since the firm wasn't ready to use the site itself at that time, it decided to lease the land for $28,000 a year. The Green Shingle is now considering building a hotel on the site as the rental lease is expiring. The current value of the land is $347,500. The firm has no loans or mortgages secured by the property. What value should be included in the initial cost of the hotel project for the use of this land? A. $0

B. $299,500 C. $347,500 D. $363,500 E. $411,500

50. Six years ago, Global Exporters paid cash for a new packaging machine that cost $287,000. Three years ago, the firm spent $2,900 on repairs and modifications to the machine. The

machine is now fully depreciated and has just sat idly in a back corner of the shop for the past 7 months. The estimated value of the machine today is $124,500. The firm is considering using this machine in a new project. If it does so, what value should be assigned to this machine and included in the initial costs of the new project? A. $0 B. $2,900 C. $124,500 D. $127,400 E. $143,500

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51. The Tattler has a printing press sitting idly in its back room. The press has no market value to another printer because the machine utilizes old technology. The firm could get $125 for the press as scrap metal. The press is 6 years old and originally cost $148,000. The current book value is $2,370. The president of the firm is considering a new project and feels he can use this press for that project. What value, if any, should be assigned to the press as an initial cost of the new project? A. $0 B. $125 C. $2,245 D. $2,370 E. $2,495

52. Waterfront Shirts is a specialty retailer offering T-shirts, sweatshirts, and caps. Its most recent annual sales consisted of $14,000 of T-shirts, $11,000 of sweatshirts, and $1,300 of caps. The company is adding polo shirts to the line-up and projects that this addition will result in sales next year of $12,000 of T-shirts, $8,000 of sweatshirts, $7,800 of polo shirts, and $1,300 of caps. What sales amount should be used when evaluating the Polo shirt project? A. $0 B. $2,800 C. $4,400 D. $5,000 E. $9,100

53. Great Woods sells specialty equipment for mountain climbers. Its sales for last year included $238,000 of tents and $411,000 of climbing gear. For next year, management has decided to sell specialty sleeping bags also. As a result of this change, sales projections for next year are $254,000 of tents, $426,000 of climbing gear, and $51,000 of sleeping bags. How much of next year's sales are derived from the side effects of adding the new product to its sales offerings? A. $0

B. $15,500 C. $31,000 D. $51,000 E. $82,000

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54. Glass Blowers, Inc. has a new project in mind that will increase accounts receivable by $18,000, decrease accounts payable by $6,000, increase fixed assets by $36,000, and decrease inventory by $11,000. What is the amount the firm should use as the initial cash flow attributable to net working capital when it analyzes this project? A. -$45,000 B. -$37,000 C. -$13,000 D. -$9,000 E. -$1,000

55. Browning's Motor Works is reviewing its current accounts to determine how a proposed project might affect the account balances. The firm estimates the project will initially require $57,000 in additional current assets and $32,000 in additional current liabilities. The firm also estimates the project will require an additional $7,000 a year in current assets for each one of the four years of the project. How much net working capital will the firm recoup at the end of the project assuming that all net working capital can be recaptured? A. -$85,000 B. $25,000 C. $53,000 D. $28,000 E. $85,000

56. Aaron's Market is implementing a project that will initially increase accounts payable by $3,600, increase inventory by $4,800, and decrease accounts receivable by $800. All net

working capital will be recouped when the project terminates. What is the cash flow related to the net working capital for the last year of the project? A. -$2,000 B. -$400 C. $400 D. $1,200 E. $2,000

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57. Ed's Hardware is adding a new product line to its sales lineup. Initially, the firm will stock $31,000 of the new inventory, which will be purchased on 30-days credit from a supplier. The firm will also invest $6,000 in accounts receivable and $4,000 in equipment. What amount should be included in the initial project costs for net working capital? A. -$41,000 B. -$37,000 C. -$10,000 D. -$6,000 E. -$2,000

58. A 9-year project is expected to generate annual revenues of $114,500, variable costs of $73,600, and fixed costs of $14,000. The annual depreciation is $3,500 and the tax rate is 34 percent. What is the annual operating cash flow? A. $14,301 B. $14,788 C. $15,052 D. $17,506 E. $18,944

59. A debt-free firm has net income of $128,400, taxes of $46,200, and depreciation of $21,300. What is the operating cash flow? A. $82,200 B. $103,500 C. $107,100 D. $149,700 E. $195,900

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60. Rock Haven has a proposed project that will generate sales of 1,680 units annually at a selling price of $22 each. The fixed costs are $12,700 and the variable costs per unit are $5.95. The project requires $28,000 of fixed assets that will be depreciated on a straight-line basis to a zero book value over the 4-year life of the project. The salvage value of the fixed assets is $6,900 and the tax rate is 34 percent. What is the operating cash flow for year four? A. $11,794 B. $12,417 C. $14,258 D. $16,348 E. $16,971

61. Your local athletic center is planning a $1.23 million expansion to its current facility. This cost will be depreciated on a straight-line basis over a 20-year period. The expanded area is expected to generate $524,000 in additional annual sales. Variable costs are 48 percent of sales, the annual fixed costs are $79,400, and the tax rate is 35 percent. What is the operating cash flow for the first year of this project? A. $118,336 B. $122,509 C. $147,027 D. $166,667 E. $219,323

62. A cost-cutting project will decrease costs by $48,500 a year. The annual depreciation on the project's fixed assets will be $11,300 and the tax rate is 34 percent. What is the amount of the change in the firm's operating cash flow resulting from this project? A. $24,552 B. $26,791 C. $25,805 D. $32,333 E. $35,852

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63. An all-equity firm has net income of $27,300, depreciation of $7,400, and taxes of $2,050. What is the firm's operating cash flow? A. $17,850 B. $21,950 C. $29,350 D. $34,700 E. $36,750

64. The Blue Lagoon is considering a project with a five-year life. The project requires

$110,000 of fixed assets that are classified as five-year property for MACRS. Variable costs equal 71 percent of sales, fixed costs are $9,600, and the tax rate is 35 percent. What is the operating cash flow for year 4 given the following sales estimates and MACRS depreciation allowance percentages?

A. -$1,806 B. $640 C. $1,809 D. $2,342 E. $2,811

65. A new project you are considering is expected to generate an operating cash flow of $48,210 and will initially free up $21,630 in net working capital. Purchases of fixed assets costing $67,800 will be required to start up the project. What is the total cash flow for this project at time zero? A. -$67,800 B. -$46,170 C. -$1,040 D. -$26,580 E. -$41,220

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66. A project has an annual operating cash flow of $43,700. Initially, this 4-year project

required $3,800 in net working capital, which is recoverable when the project ends. The firm also spent $21,500 on equipment to start the project. This equipment will have a book value of $4,300 at the end of year 4. What is the cash flow for year 4 of the project if the equipment can be sold for $5,400 and the tax rate is 34 percent? A. $51,724 B. $52,038 C. $52,526 D. $52,900 E. $43,100

67. The Outpost currently sells short leather jackets for $349 each. The firm is considering selling long coats also. The coats would sell for $689 each and the company expects to sell 900 a year. If the firm decides to carry the long coat, management feels that the sales of the short jacket will decline from 1,420 to 1,265 units. Variable costs on the jacket are $210 and $445 on the long coat. The fixed costs for this project are $42,000, depreciation is $11,000 a year, and the tax rate is 33 percent. What is the projected operating cash flow for this project? A. $108,187 B. $111,264 C. $112,212 D. $119,672 E. $120,418

68. Burke's Corner currently sells blue jeans and T-shirts. Management is considering adding fleece tops to its inventory to provide a cooler weather option. The tops would sell for $49 each with expected sales of 3,600 tops annually. By adding the fleece tops, management feels the firm will sell an additional 220 pairs of jeans at $59 a pair and 350 fewer T-shirts at $18 each. The variable cost per unit is $36 on the jeans, $9 on the T-shirts, and $21 on the fleece tops. With the new item, the depreciation expense is $27,000 a year and the fixed costs are $62,000 annually. The tax rate is 34 percent. What is the project's operating cash flow? A. $27,789 B. $34,708 C. $36,049 D. $38,419 E. $40,201

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69. Hi Fliers is considering making and selling custom kites in two sizes. The small kites would be priced at $9 and the large kites would be $24. The variable cost per unit is $5 and $11,

respectively. Jill, the owner, feels that she can sell 2,600 of the small kites and 1,700 of the large kites each year. The fixed costs would only be $2,100 a year and the tax rate is 34 percent. What is the annual operating cash flow if the annual depreciation expense is $900? A. $20,064 B. $20,370 C. $20,848 D. $21,309 E. $21,414

70. A project has sales of $462,000, costs of $274,000, depreciation of $28,000, interest expense of $3,400, and a tax rate of 35 percent. What is the value of the depreciation tax shield? A. $9,800 B. $10,300 C. $10,650 D. $10,800 E. $11,350

71. A project will reduce costs by $34,000 but increase depreciation by $16,500. What is the operating cash flow of this project based on the tax shield approach if the tax rate is 35 percent? A. $5,775 B. $9,275 C. $15,625 D. $25,550 E. $27,875

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72. A project has annual depreciation of $16,200, costs of $87,100, and sales of $123,000. The applicable tax rate is 34 percent. What is the operating cash flow according to the tax shield approach? A. $23,019 B. $27,667 C. $27,458 D. $29,202 E. $29,878

73. A project requires $336,000 of equipment that is classified as 7-year property. What is the depreciation expense in year 3 given the following MACRS depreciation allowances, starting with year one: 14.29, 24.49, 17.49, 12.49, 8.93, 8.92, 8.93, and 4.46 percent? A. $38,033 B. $41,267 C. $48,509 D. $58,766 E. $61,322

74. Better Berries has a new project that requires $869,000 of equipment. What is the depreciation in year 6 of this project if the equipment is classified as 7-year property for

MACRS purposes? The MACRS allowance percentages are as follows, commencing with year one: 14.29, 24.49, 17.49, 12.49, 8.93, 8.92, 8.93, and 4.46 percent. A. $17,294 B. $17,301 C. $32,988 D. $77,515 E. $77,602

75. What is the year two depreciation on equipment costing $164,000 if it is classified as 5-year property for MACRS purposes? The MACRS allowance percentages are as follows, commencing with year one: 20.00, 32.00, 19.20, 11.52, 11.52, and 5.76 percent. A. $37,620 B. $38,200 C. $41,984 D. $47,815 E. $52,480

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76. Fast Cars is considering a project that requires $138,000 of fixed assets that are classified as 5-year property for MACRS. What is the book value of these assets at the end of year 3? The MACRS allowance percentages are as follows, commencing with year one: 20.00, 32.00, 19.20, 11.52, 11.52, and 5.76 percent. A. $34,210 B. $36,667 C. $39,744 D. $40,450 E. $41,504

77. Western Wear purchased some 3-year MACRS property 3 years ago. What is the current book value of this equipment if the original cost was $48,000? The MACRS allowance

percentages are as follows, commencing with year one: 33.33, 44.45, 14.81, and 7.41 percent. A. $0 B. $1,122 C. $3,557 D. $6,508 E. $8,886

78. Hunter's Paradise purchased $568,000 of equipment 4 years ago. The equipment is 7-year MACRS property. The firm is selling this equipment today for $199,500. What is the aftertax cash flow from this sale if the tax rate is 35 percent? The MACRS allowance percentages are as follows, commencing with year one: 14.29, 24.49, 17.49, 12.49, 8.93, 8.92, 8.93, and 4.46 percent. A. $186,630 B. $191,780 C. $198,410 D. $209,740 E. $216,610

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79. Metal Makers, Inc. purchased some welding equipment 6 years ago at a cost of $579,000. Today, the company is selling this equipment for $110,000. The tax rate is 34 percent. What is the aftertax cash flow from this sale? The MACRS allowance percentages are as follows, commencing with year one: 14.29, 24.49, 17.49, 12.49, 8.93, 8.92, 8.93, and 4.46 percent. A. $81,380 B. $95,220 C. $98,960 D. $101,540 E. $110,000

80. Phil's Dinor purchased some new equipment 2 years ago for $89,500. Today, it is selling this equipment for $67,000. What is the aftertax cash flow from this sale if the tax rate is 35 percent? The MACRS allowance percentages are as follows, commencing with year one: 20.00, 32.00, 19.20, 11.52, 11.52, and 5.76 percent. A. $58,586 B. $63,421 C. $67,000 D. $70,938 E. $74,875

81. Three years ago, Hi Tek purchased some 5-year MACRS property for $67,400. Today, it is selling this property for $28,000. How much tax will the firm owe on this sale if the tax rate is 34 percent? The MACRS allowance percentages are as follows, commencing with year one: 20.00, 32.00, 19.20, 11.52, 11.52, and 5.76 percent. A. -$2,920 B. -$1,480 C. $0 D. $1,480 E. $2,920

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95. The Golf Range is considering adding an additional driving range to its facility. The range would cost $76,000, would be depreciated on a straight line basis over its 7-year life, and would have a zero salvage value. The anticipated income from the project is $34,000 a year with $14,400 of that amount being variable cost. The fixed cost would be $16,200. The firm believes that it will earn an additional $13,000 a year from its current operations should the driving range be added. The project will require $2,000 of net working capital, which is recoverable at the end of the project. What is the internal rate of return on this project at a tax rate of 34 percent? A. 7.53 percent B. 9.29 percent C. 11.47 percent D. 12.68 percent E. 14.04 percent

96. A project has an initial requirement of $698,700 for fixed assets and $61,000 for net

working capital. The fixed assets will be depreciated to a zero book value over the 4-year life of the project and will be worthless at the end of the project. All of the net working capital will be recouped after 4 years. The expected annual operating cash flow is $218,000. What is the project's internal rate of return if the tax rate is 35 percent? A. 7.72 percent B. 8.41 percent C. 8.69 percent D. 9.11 percent E. 9.97 percent

Essay Questions

97. Explain the concept of incremental cash flow analysis and its purpose.

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98. Explain the difference between scenario analysis and sensitivity analysis and identify the purpose of each.

99. Explain the difference between a sunk cost and an opportunity cost and give an example of each.

100. Explain how the selection of a method of depreciation can affect the net present value of an investment for a tax-paying firm.

101. Identify three managerial options that relate to project analysis and explain how those options affect the net present value of a project.

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Multiple Choice Questions

102. Travel Coaches currently sells 14,000 motor homes per year at $94,000 each, and 1,500 luxury motor coaches per year at $159,000 each. The company wants to introduce a low-range camper to fill out its product line; it hopes to sell 6,000 of these campers per year at $14,500 each. An independent consultant has determined that if Travel Coaches introduces the new campers, it should boost the sales of its existing motor homes by 1,100 units per year, and reduce the sales of its luxury motor coaches by 450 units per year. What amount should be used as the annual sales figure when evaluating this project? A. $87,000,000 B. $97,400,000 C. $118,850,000 D. $186,750,000 E. $261,950,000

103. Consider an asset that costs $459,000 and is depreciated straight-line to zero over its

6-year tax life. The asset is to be used in a 4-year project; at the end of the project, the asset can be sold for $120,000. If the relevant tax rate is 34 percent, what is the aftertax cash flow from the sale of this asset? A. $131,220 B. $127,840 C. $116,500 D. $97,600 E. $79,200

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104. An asset used in a 3-year project falls in the five-year MACRS class for tax purposes. The asset has an acquisition cost of $5.4 million and will be sold for $1.2 million at the end of the project. If the tax rate is 35 percent, what is the aftertax salvage value of the asset?

Table 9.7 Modified ACRS depreciation allowances A. $1,075,680 B. $780,000 C. $904,320 D. $1,324,320 E. $1,187,560

105. Miller's, Inc. is considering a new 4-year expansion project that requires an initial fixed asset investment of $3.6 million. The fixed asset will be depreciated straight-line to zero over its 4-year life, after which time it will be worthless. The project is estimated to generate $3.9 million in annual sales, with costs of $2.6 million. If the tax rate is 34 percent, what is the OCF for this project? A. $1,164,000 B. $997,720 C. $684,280 D. $858,000 E. $911,760

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106. The Sausage Hut is looking at a new sausage system with an installed cost of $438,000. This cost will be depreciated straight-line to zero over the project's 4-year life, at the end of which the sausage system can be scrapped for $69,000. The sausage system will save the firm $129,000 per year in pretax operating costs, and the system requires an initial investment in net working capital of $29,000, which will be recouped at project end. If the tax rate is 35 percent and the discount rate is 9 percent, what is the NPV of this project? A. -$18,870 B. -$6,320 C. $2,560 D. $14,410 E. $26,880

107. Your firm is contemplating the purchase of a new $674,000 computer-based order entry system. The system will be depreciated straight-line to zero over its 6-year life. It will be worth $58,000 at that time. You will save $185,000 before taxes per year in order processing costs, and you will be able to reduce working capital by $29,000 at the beginning of the project. Working capital will revert back to normal at the end of the project. If the tax rate is 34 percent, what is the IRR for this project? A. 12.51 percent B. 12.79 percent C. 13.01 percent D. 13.53 percent E. 14.20 percent

108. Industrial Machines has the following estimates for its new gear assembly project: price = $1,340 per unit; variable costs = $348 per unit; fixed costs = $5.1 million; quantity = 82,000 units. Suppose the company believes all of its estimates are accurate only to within ? 4 percent. What value should the company use for its total variable costs when performing its best-case scenario analysis? A. $26,578,064 B. $28,490,342 C. $28,536,000 D. $29,802,130 E. $30,864,538

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109. We are evaluating a project that costs $1.68 million, has a 5-year life, and has no salvage value. Assume depreciation is straight-line to zero over the life of the project. Sales are

projected at 82,000 units per year. Price per unit is $43.29, variable cost per unit is $22.18, and fixed costs are $623,000 per year. The tax rate is 34 percent, and we require a 10 percent return on this project. What is the sensitivity of NPV to a 100 unit change in the sales figure? A. $3,998.40 B. $4,609.18 C. $4,897.20 D. $5,281.55 E. $5,557.12

110. Boyertown Industrial Tools is considering a 3-year project to improve its production efficiency. Buying a new machine press for $611,000 is estimated to result in $193,000 in annual pretax cost savings. The press falls in the MACRS five-year class, and it will have a salvage value at the end of the project of $162,000. The press also requires an initial investment in spare parts inventory of $19,000, along with an additional $2,000 in inventory for each succeeding year of the project. If the tax rate is 35 percent and the discount rate is 12 percent, should the company buy and install the machine press? Why or why not?

Table 9.7 Modified ACRS depreciation allowances A. Yes; the NPV is $51,613 B. Yes: the NPV is $45,607 C. No; the NPV is -$22,311 D. No; the NPV is -$52,918 E. No; the NPV is -$74,945

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111. Consider a 3-year project with the following information: initial fixed asset investment = $770,000; straight-line depreciation to zero over the 3-year life; zero salvage value; price = $34.99; variable costs = $23.16; fixed costs = $245,000; quantity sold = 94,500 units; tax rate = 35 percent. How sensitive is OCF to an increase of one unit in the quantity sold? A. $7.69 B. $8.38 C. $8.67 D. $9.97 E. $11.83

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Chapter 09 Making Capital Investment Decisions Answer Key

Multiple Choice Questions

1. Any changes to a firm's projected future cash flows that are caused by adding a new project are referred to as which one of the following? A. Eroded cash flows B. Deviated projections C. Incremental cash flows D. Directly impacted flows E. Assumed flows Refer to section 9.1.

Bloom's: Knowledge Difficulty: Basic

Learning Objective: 09-01 Determine the relevant cash flows for a proposed investment. Section: 9.1

Topic: Incremental cash flows

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2. Which one of the following principles refers to the assumption that a project will be evaluated based on its incremental cash flows? A. Forecast assumption principle B. Base assumption principle C. Fallacy principle D. Erosion principle E. Stand-alone principle Refer to section 9.1.

Bloom's: Knowledge Difficulty: Basic

Learning Objective: 09-01 Determine the relevant cash flows for a proposed investment. Section: 9.1

Topic: Stand-alone principle

3. A cost that should be ignored when evaluating a project because that cost has already been incurred and cannot be recouped is referred to as which type of cost? A. Fixed B. Forgotten C. Variable D. Opportunity E. Sunk

Refer to section 9.1.

Bloom's: Knowledge Difficulty: Basic

Learning Objective: 09-01 Determine the relevant cash flows for a proposed investment. Section: 9.1 Topic: Sunk cost

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4. Which one of the following terms refers to the best option that was foregone when a particular investment is selected? A. Side effect B. Erosion C. Sunk cost

D. Opportunity cost E. Marginal cost Refer to section 9.2.

Bloom's: Knowledge Difficulty: Basic

Learning Objective: 09-01 Determine the relevant cash flows for a proposed investment. Section: 9.2

Topic: Opportunity cost

5. Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project? A. Opportunity cost B. Sunk cost C. Erosion

D. Replicated flows E. Pirated flows Refer to section 9.2.

Bloom's: Knowledge Difficulty: Basic

Learning Objective: 09-01 Determine the relevant cash flows for a proposed investment. Section: 9.2 Topic: Erosion

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